Macroeconomic Determinants of Banking Instability in Ghana

This chapter sets out to investigate macroeconomic factors that explain banking instability in Ghana using a relatively new approach that distinguishes between bank runs and insolvency of banks as measures of banking instability. Previous studies have predominantly employed accounting-based bank-level Z-scores to proxy banking instability in the country. These measures, however, are only able to capture a single measure of banking instability, namely, the insolvency problem of banks. This study, therefore, achieves the depth that has not been attained by the previous studies on Ghana by separating bank runs from bank insolvency as distinct measures of banking instability. Employing quarterly frequency time series data for the period 1996 to 2020 and an ordered logit model, we find that real output growth is inversely related to the probability of banking instability, whether measured by bank runs or bank insolvency. We also establish that the inflation rates have a curvilinear relationship with both measures of banking instability. At low or moderate levels of inflation, the probability of banking instability and inflation rates are inversely related, while at high levels of inflation, accelerating rates of inflation propel the probability of bank instability. The study also finds that an increase in interest rates, a depreciation of the Ghanaian Cedi vis-à-vis the US dollar and a rise in aggregate money supply as a ratio of foreign exchange reserves tends to increase the probability of banking instability. Among the variables that are used to capture the quality of regulatory and institutional structures, we find that improvements in the rule of law reduce the probability of banking instability measured by bank runs, while improvements in political stability reduce the probability of banking instability measured by bank insolvency. It is further observed that changes in political stability have no impact on the probability of banking instability measured by bank runs, and changes in the rule of law have no impact on the probability of banking instability measured by the insolvency problem of banks.